Government joins the fold

Lynn Hine reports on the impact of IFRS conversion on the public sector

Government bodies will have to produce their first financial statements under International Financial Reporting Standards (IFRS) from 2008/09 with the restatement of comparatives from 1 April 2007. This represents a huge challenge, particularly as guidance on interpretation of IFRS for the Government has not yet been published.

Government bodies should not underestimate the complexity of the change and the number of risks that need to be managed. In the private sector, experience showed that early planning made for a smoother and often cheaper conversion process. One of the reasons for this is that the devil is often in the detail. Taking a holistic and properly planned approach to conversion, including proper investment in training, getting the appropriate systems in place and securing the resources that will be needed is the best way to reduce risk and ensure long-term benefits from the process.

Commencing an IFRS transition project

The impact of transition to IFRS is broad and has ramifications throughout an organisation; it cannot simply be considered as a technical accounting change. Government bodies need to start their IFRS transition project as soon as possible, and there are a number of key areas they should be focusing on now.

Project/programme management

• Project set-up and governance – effective project set-up and governance is crucial.
• Resource levels – adequate staffing levels in terms of both numbers and skills will also be important, as will mechanisms to retain staff during the critical transition period; skilled resources will become scarcer as the deadline approaches.

Internal and external reporting and communication

• High-level business impact – certain decisions, such as which accounting policies to adopt, need to be made by those charged with governance to set the parameters for the project.
• Stakeholders’ relations and expectations – inadequate communication with key stakeholders could create risks.
• IFRS financial statements and data dictionary – defining the data needed to meet the reporting requirements, not just primary statements but also new and extensive disclosures, is key to ensuring that all new data needs are addressed.
• Management information – in the future, management information will need to reflect the change to IFRS.

Data, system, process and control considerations

• Internal communications, knowledge transfer and training – it will be vital to provide sufficient training and support to ensure the production of IFRS information is embedded and sustainable.
• New data requirements – reporting under IFRS brings significant new and additional data requirements. These must be identified and addressed in a controlled and consistent manner to help inform the decision on the most appropriate systems solution.
• Internal control environment – conversion to IFRS has implications for the robustness of the control environment and the level of assurance that can be given to, and reported by, those charged with governance.
• Processes – where new data requirements or systems enhancements are needed, the associated processes will probably need revision or improvement.
• System enhancements and developments – additional systems functionality will be required in a number of areas – for example, the capability to capture more detailed data on leases.

Key areas of impact

While we have yet to see the details of what interpretation the Treasury may apply to IFRS for the public sector, we would expect one of the biggest impacts to be on private finance initiative (PFI) schemes. All such schemes will need to be reassessed to judge whether they should be on or off-balance sheet, as will the financing and financial instruments that underlie them.

The other areas where the standards are expected to introduce significant changes are as follows.

• Fixed assets – particularly valuations, impairments and infrastructure assets. Private sector experience has shown that significant time investment is required for full impairment reviews, and time and expense are required to obtain the valuation of intangibles. In addition, specific consideration will need to be given to the capitalisation or reclassification of software and development costs.
• Leases – private sector experience showed that the need to undertake a detailed review of leases between operating and finance leases was time-consuming. The need to consider the land and building elements of leases separately is likely to add further to the complexity of the analysis that will be required. Furthermore, the need to review lease incentives may cause difficulty.
• Associate entities – given the increasing number of partnership arrangements between public and private sector organisations, more equity accounting is likely to be required under IFRS under the standards’ ‘power to influence’ test.
• Deferred tax – although few government bodies are subject to capital gains tax, those that are will need to recognise deferred tax on any upward revaluations of fixed assets.
• Managing increased disclosure requirements – research in the private sector shows that the increased complexity requires greater levels of disclosure under IFRS. One of the biggest issues for finance teams will be how to present the new information in a more concise, user-friendly, consistent and comparable fashion.

Other areas that may result in significant change, depending on the interpretation adopted by the Treasury, include segmental reporting and related party transaction disclosure requirements.

Governance considerations

Those charged with governance have ultimate responsibility for ensuring a successful and sustainable transition to IFRS. They will need to understand the key risks associated with getting the financial data right and communicating the impact to stakeholders on a timely basis. Where audit committees exist, they will have a vital role to play, and members should ensure that they receive a high-level assessment of the key impacts as soon as possible.

The audit committee must also be satisfied that the body is on course to make the transition to IFRS in a way that ensures its continuing ability to produce reliable financial information. Practically, this means ensuring that the right IFRS project structures are established and that regular feedback is maintained.

The roles of management and the CFO

Management will need to take action fast and ensure that there is a steering group in place with overall responsibility for the IFRS transition project. Resource allocations should reflect the importance of the change. Management should ensure that there is consistency and efficiency in the way the body sets about meeting various reporting requirements. Training in IFRS should extend to managers outside the finance function and should include all key officers.

Management must also understand what impact IFRS will have on strategic decisions and take the opportunity to make IFRS the basis of internal management reporting wherever possible. The timing and extent of communications to key stakeholders will also need careful planning to manage expectations.

As the leader of the body’s IFRS transition (in most cases), the chief financial officer (CFO) will need to oversee the whole transition process, including producing the financial data, changing processes and training people. The CFO must ensure that key deadlines are met and oversee communications throughout the body so that the whole organisation and its stakeholders understand the implications of the changeover, not just those in the central finance function.

The move to IFRS proved to be a challenge for the corporate world, with many companies finding the conversion process more difficult and more costly than initially expected. Government bodies have the advantage of being able to look at companies’ experience and learn from it so that they steer a clearer path through the implementation of the new standards. Perhaps the most important lesson is that it is never too early to start.

Lynn Hine is accounting technical partner for the government and public sector at PricewaterhouseCoopers LLP.